While Revenue Management (RM) is traditionally considered a tool of service operations, RM has shown considerable potential for application in manufacturing operations. The typical challenges in make-to-order manufacturing are fixed manufacturing capacities and a great variety in offered products, going along with pronounced fluctuations in demand and profitability.
If the demand exceeds manufacturing capacity on a regular basis, companies are confronted with the challenge to optimize order acceptance [5]. The objective is to maximize the overall profit by adequately selecting the best orders. Thus, companies are confronted with the decision to dynamically control the inflow of orders. This constitutes a classical environment for employing the techniques of RM, capacity control in particular. By quantitatively assessing the opportunity costs of an order, RM provides support for order acceptance decisions.
Failure to consider the order’s capacity consumption and resulting effects on the
bottlenecks in the production stream may lead to losses in capacity and inefficient order acceptance decisions.
The production capacity in M-T-O steel manufacturing should be considered as perishable inventory [8]. The common perception is that manufacturers do not face the problem of perishability. However, a company employing M-T-O production relies on the knowledge of the relevant specifications of quality, quantity, and delivery date from the customer before production can begin. This knowledge therefore serves as the so-called external factor, which is a production factor required for the production of goods and services which cannot be controlled by the company. In the context of M-T-O manufacturing, it is not the product itself that has to perish, only the capacity to produce it [8]. In order to apply RM in the order acceptance process, a company must have the
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ability to reject customer requests or to vary prices driven by its efforts to maximize the overall contribution margin.
There are several characteristics distinguishing RM at a steel manufacturing facility from its counterparts in service industries. For instance, Gallien, Le Tallec, and Schoenmeyr (2004)[9] point out that the production capacity in manufacturing settings is allocated over an infinite horizon, as opposed to the finite seat allocation period ending with a
flight’s departure. Further, it is possible to start production at any time during the day, whereas seats on a plane can only be sold for a specific departure time constrained by a reserved slot for take-off. Most manufacturers are free to shift their production activities in time, as long as the end-delivery date is met. In manufacturing it is not a pre-specified production time that is sold, but rather the certainty that an appointed activity will be performed somewhere within a specified period of time [10]. Despite the at-first-glance suspected additional degree of freedom, most customer orders are quoted for the soonest possible delivery date, which heavily relies on the upstream melting and casting routine. In addition, long lead times in production and high material costs further restrict the suspected additional degree of freedom making the available production capacity a perishable resource. Also, as a characteristic of the M-T-O production, significant variable costs need to be considered, influencing the profitability of order acceptance. Since Tata Steel Tubes offers Iron alloys, material costs take up a large percentage of the final product price quoted to the customer. In contrast to the homogeneous capacity consumption faced by the airlines (one customer requires one seat on the airplane), the capacity consumption and number of required production units in a M-T-O environment differ from each other. Therefore, the assumption that an increase in revenues automatically results in an increase in profits is not necessarily true. The objective of capacity control in the service industry to maximize revenues needs to be replaced by the maximization of the overall contribution margin.
Defregger and Kuhn (2007)[11] show that in order to effectively apply RM, a company
needs to be able to segment the customers into classes of higher and lower price sensitivity. Due to the price negotiations between sales personnel and the customers, not only the products are customized, but to a certain extent, the price as well. It can
therefore be assumed that the sales personnel are able to skim the customer’s willingness
to pay. The sales agent uses the customer’s information about the desired product,
specification and quantity to perform both the Available to Promise (ATP) and Capable to Promise (CTP) checks. Hereby, ATP identifies already-existing inventory that is available to fulfil the request. Due to the great product variability, no significant inventory of pre-products exists, increasing the importance of the CTP check in M-T-O
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with the available production capacity and thus, verifies if enough production capacity and material is available to fulfil the request, resulting in the soonest possible date of delivery. Afterwards, the profitability check results in a comparison of the lowest
quotation price based on production costs and the customer’s willingness to pay. The
request is accepted and the available production resources updated if the customer’s
willingness to pay exceeds the lowest quotation price. If the customer’s willingness to pay
is exceeded by the lowest quotation price, the request is marked as not profitable. This information is used in further negotiations with the customer, resulting either in the
customer’s acceptance of a price exceeding the lowest quotation price, the change of
specifications (“new request”) or the rejection of the request. In practice, sales agents often take a more active role in the actual interaction with the customer, which is frequently a process of iterative negotiation. The sales personnel at Tata Steel Tubes face a difficult task when classifying an incoming customer request as profitable to accept or not. Since it is the policy of Tata Steel Tubes that every request for a quotation is answered
within 24 hours, it is not possible for the sales agents to delay a response for tactical
reasons.
Figure 6.1 Interaction sales and customer during order acceptance process
The contribution margin of the tubes produced has a high variance, that is mainly due to the large variety of products offered by Tata Steel Tubes and the price negotiations. The large offered variety of products results in a abroad spectrum of contribution margins. Each product achieves different average contribution margins. Generally, the highly customized products achieve higher average contribution margins than the volume-
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intense SKUs. Therefore, the volume is not always a good indication of the resulting capacity consumption of an order. Even if the width, the length, and the type of SKUs of two orders are identical, the capacity consumption in the production phase of each order
is heavily influenced by the specified thickness. Evaluating an order’s profitability
regarding contribution margin per ton, while failing to consider its capacity consumption, leads to erroneous information during times of excess demand. The speed of the production process depends on the type of tube, geometric measurements and type of steel. The capacity requirements for a particular resource fluctuate heavily in relation to the ordered alloy and geometric specifications, i.e. length, width, and thickness.